What Is A Hard Money Loan and When Is It Used?

Hard money loans are short-term loans generally used to purchase investment property. They can offer low interest rates, good terms and are becoming increasingly popular among real estate investors. Here are some facts about hard money loans, including when they’re used and the benefits of using them over conventional mortgage loans.

What is a Hard Money Loan?

A hard money loan is a short-term financing option typically used to purchase investment properties. The proceeds of hard money loans are used to purchase property but may also be used to construct or renovate property. Hard money loans are often used by investors interested in developing and growing a rental portfolio as well as investors purchasing home to fix and flip.

An investor may purchase an older home with a hard money loan, fix it up and resell it for a profit. Potential investors often utilize hard money loans because of the flexible qualifications they offer as well as the speed in which they can get their money. Hard money loans are usually interest-only loans with a term of about 12 months, although some may go up to two or three years.

When Are Hard Money Loans Most Often Used?

As stated earlier, hard money loans are most often used for investment properties such as “fix and flip” properties. Investment properties of this type, such as real estate auctions, usually require the buyer to have the cash on hand and to be prepared to finalize the purchase immediately. With a typical mortgage loan, it can take weeks for the loan to close. In that time, the potential to purchase the property is gone because the property is already sold to another buyer.

Hard money loans allow an investor to make a purchase quickly. The terms of hard money loans, which range from one to two years, allow the buyer sufficient time to renovate the property and sell it. Hard money loans are also used for construction loans. By the time the loan term is up, the home is constructed so the borrower can convert to a conventional mortgage loan.

The downside of hard money loans is that the interest rates, which can be from seven percent to 12 percent, are usually higher than conventional loans. The borrower may also be required to pay a reimbursement fee, which can be anywhere from one to ten percent. The fact that they’re short-term loans make these extra fees still worth it to investors.

Hard money loans are also real popular with long-term investors. Long-term investors are investors who may have several properties at one time all being renovated. Most conventional lenders won’t borrow that kind of money to a borrower because of banking regulations. Therefore, hard money loans are the ideal choice.

How do Hard Money Loans Differ from Conventional Mortgage Loans?

Hard money loans are different from conventional mortgage loans in several ways. Conventional mortgage loans offer lower interest rates than hard money loans. Whereas a mortgage loan may offer the borrower interest rates as low as three percent, hard money loans may charge up to 12 percent.

Conventional mortgage loans offer terms from ten years up to 30 years; hard money loans are typically for a year or maybe slightly longer. Conventional mortgage loans require the borrower to make monthly payments that include both the interest and principal. Hard money loans have interest-only payments until it’s time for the loan to be paid in full.

Hard money loans can be completed in a day or two whereas conventional mortgage loans can take weeks to close because they include income and employment verifications, title insurance, appraisals, credit checks, disclosures, settlements and what seems like endless documentation and paper work.

Mortgage loans are usually originated with banks, credit unions, savings and loans, and similar lending institutes. They’re often also later sold to another bank. Hard money loans get their money from investors or investment firms, and the loan is not sold to another bank.

Benefits of Hard Money Loans

Despite it appearing that hard money loans may be more costly than conventional mortgage loans, they actually have a few benefits that make them very worthwhile financial options.

• Faster Approval – This is probably the number #1 benefit of hard money loans. The borrowers don’t have to go through the same hoops that they would with a regular mortgage loan. A faster approval time equates to faster disbursement of the funds.

• Flexible Payments – When you’re dealing with a private lender or investor, you may be able to discuss different payment options so you can come to an agreement regarding a payment plan that’s suitable to both. This is not usually the case with a regular mortgage.

• Fewer Requirements – With a conventional mortgage loan, you’ll need to provide proof of employment, income, work experience, payment history, etc. Hard money loans depend more on the value of the property than the borrower’s financial history.

• No Prepayment Penalties – When you pay off a hard money loan before it’s due date, there is not a penalty included. Many banks will charge a prepayment penalty if you pay the loan before the maturation date.

• Credit History Not That Important – With a conventional mortgage, a poor credit history can be cause for denial. Card money loans don’t put as emphasis on credit scores. They put more weight on the property value and the borrower’s equity.